Economic Systems and Market Failure: Question 1
Syllabus 2.8, 2.9, 2.10
In a market economic system, how are the answers to the "what, how and for whom to produce" questions mainly determined?
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Worked solution
Step 1: Recall what a market economic system means
A market economic system is one in which resources are allocated mainly through the price mechanism, prices rise and fall in response to the choices of buyers and sellers, and this in turn signals producers what to make, how to make it, and who ends up consuming it. Government involvement is kept to a minimum.
Step 2: Test each option against this definition
- Option A describes exactly this: prices and profit acting as signals, with minimal government involvement. This matches the definition of a market economic system.
- Option B describes central planning: a single authority deciding output and distributing goods directly. This is the opposite of letting prices do the allocating, so it does not fit.
- Option C describes ongoing negotiation between government and firms over every good. This is closer to a mixed economic system, where the government intervenes alongside the market, not a pure market system.
- Option D describes the government fixing every price by law. Setting maximum or minimum prices is a specific government intervention used to correct market failure in a mixed economy. It is not how a market economic system itself operates.
Step 3: Select the option that matches
Only option A reflects resource allocation through the price mechanism with minimal government involvement.
Final answer
The answers to what, how and for whom to produce are determined by prices and profit signals, with very little government involvement, option A.